High Court Lifts the Veil on Transactions to be Considered as Goodwill

In an important ruling, the Madras High Court has ruled that the consideration paid by a company for the purchase of a business of an ongoing profitable firm is in the nature of goodwill as against technical knowhow and non-compete fee claimed by the tax payer. Incase of any attempt made to evade tax, it becomes imperative for the authorities to lift the corporate veil and ascertain the real intention behind the transaction.

Taxand's Take

While India respects form over substance, this ruling demonstrates one of many instances where tax authorities have pierced the corporate veil of a company to ascertain the real intention behind the transaction and to determine whether such transaction lacks real substance and is a colorable device intended to "evade" taxes.

The High Court while rejecting the contention of the taxpayer relied upon the ratio laid down in numerous judgments, including the ruling of the Apex Court in the case of Workmen of Associated Rubber Industry Ltd vs Associated Rubber Industry Ltd [(1986) 157 ITR 77], where the corporate veil was lifted for the purpose of ascertaining the real character of the transactions.

It is to be noted that recently, the Gujarat High Court has disregarded the commercial substance and has rejected the scheme of business reorganization filed by Vodafone Essar Gujarat Limited for demerger of its passive infrastructure assets into Vodafone Essar Infrastructure Limited predominantly by holding that the scheme resulted in tax evasion.

These recent rulings show a trend of the shift in the approach of the tax authorities and Courts with respect to transactions which result in alleged evasion of tax. With the Direct Taxes Code Bill 2010 also seeking to implement the General Anti Avoidance Rule in 2012, substance will only assume greater importance over form in the coming years.